Legal Malpractice by Insurance Defense Counsel: Who Can Be Sued, Who Can Sue, and For Whatby David A. Grossbaum(County Bar Update, May 2002, Vol. 22, No. 5)

Legal Malpractice by Insurance Defense Counsel: Who Can Be Sued, Who Can Sue, and For What

By David A. Grossbaum, Esq., partner, Cetrulo & Capone, LLP, Boston. Grossbaum's practice concentrates on professional liability defense, insurance coverage, products liability, personal injury, and fidelity cases. His professional liability defense work has focused on lawyers and insurance professionals. His insurance coverage work has involved matters throughout the United States in the areas of professional liability and commercial general liability.

Although it's still relatively rare to see a legal malpractice claim against counsel retained by a carrier to defend an insured, a number of recent court decisions demonstrate that such claims are being pursued. These cases have resulted in conflicting rulings on who can sue in the event of alleged malpractice by insurance defense counsel, who can be sued, and the legal basis for such a claim. This article examines those diverse rulings and the policy reasons behind them.

Many of the reported cases involve allegations that the defense counsel didn't raise affirmative defenses that would have resulted in a verdict for the insured defendant (such as a statute of limitations defense or a defense that the claim is barred by the exclusivity provisions of the state workers' compensation law), that the lawyer didn't appear at critical hearings in the case or made poor strategic decisions at trial or in discovery, or that defense lawyer failed to transmit a settlement demand or offer.

It's clear that the insured has a legal malpractice claim against defense counsel retained by the insurer to represent the insured, regardless of the fact that the insurer is paying for the defense. But if the insured has coverage for the full amount of the settlement or verdict, the insured will have suffered no damages for which the insured can sue. The party forced to pay for the malpractice is the primary insurer and possibly the excess insurer.

There are, however, cases where the insured suffers a judgment above the primary limits or a judgment that wasn't covered by the policy but couldn't recover from the lawyer because the lawyer was in bankruptcy, had died, or was underinsured or uninsured. In these cases, insureds have sued the primary insurer on the basis that the primary insurer is vicariously liable for the negligence of its selected counsel.

Suits by the Primary Insurer

Claims Asserting an Attorney-Client Relationship

Claims based on a direct attorney-client relationship have only a spotty record of success. The issue of whether defense counsel has been selected by the insured because of an insurer's reservation of rights or whether the insurer has appointed defense counsel is critical to the outcome of any such suit.

A primary insurer has no cause of action for legal malpractice against independentCumiscounsel. The whole purpose of having this independent counsel is recognition that this counsel cannot represent both the insurer and the insured at the same time due to the inherent conflict of interest. Thus, the lawyer has no professional duty to the insurer and cannot be sued for breach of any such duty.1This California court noted that the insurer can protect itself from incompetentCumiscounsel pursuant to its statutory right to have its own counsel participate fully in the defense of the matter and monitor the case.

On the other hand, where the insurer had retained defense counsel and there was no reservation of rights, courts have allowed the primary insurer to bring a cause of action against the attorney for malpractice, finding that the attorney represents the insurer along with the insured where they have common interests.2These cases generally find that there's nothing inconsistent with insurance defense counsel representing and having an attorney-client relationship and professional duties to both the insured and primary insurer.

Other courts have determined, however, that an attorney hired by an insurance company to defend the insured doesn't have an attorney-client relationship with the insurer and it cannot bring a malpractice claim. Rather, the defense counsel's legal and professional duty is to the insured alone, and any other rule would force defense counsel to serve two masters whose interests are different.3

Claims Based on Tort or Statutory Duties

Although the California court inHavenfound no attorney-client relationship betweenCumiscounsel and the insurer, it did allow the insurer to proceed with a statutory claim against defense counsel. This court found that a violation byCumiscounsel of statutory obligations, namely to "inform and consult with the insurer on all matters relating to the action" and to "cooperate fully in the exchange of information that is consistent with... counsel's ethical and legal obligation to the insured" can lead to the claim by the insurer.

At least one court has denied the primary insurer a right to sue defense counsel based on an attorney-client relationship but allowed a claim based on theories of negligent misrepresentation, fraud, breach of contract, and breach of warranty.4In that case, the lawyer was accused of misrepresenting to an insurer that paying a settlement would release the insured from all claims when in fact the settlement papers only provided for release of a portion of the claim.

Equitable Subrogation to the Rights of the Insured

Primary insurers have been much more successful in asserting claims of equitable subrogation. That is, the primary insurer asserts that it's equitably subrogated to, and stands in the shoes of, the insured by virtue of the insurer's payment of the insured's liability. As such, the insurer attempts to assert the legal malpractice claim that the insured would have been able to assert but for the fact the insured has no damages because these were all covered by insurance. Although refusing to recognize the direct attorney-client relationship between defense counsel and the insurer, the Michigan Supreme Court allowed the primary insurer to sue defense counsel on this type of an equitable subrogation theory.5The court justified this result by relying on the need to prevent defense counsel from being insulated from malpractice claims where counsel's negligence resulted in a much larger judgment than would have occurred if counsel had acted competently. Consider-ing that the primary insurer was simply asserting a claim for legal malpractice that the insured could have asserted, the court believed it wasn't expanding the attorney's liability and accountability any further than already existed.

Claims by Excess Insurers

Equitable Subrogation

The most successful theory for excess carriers has been an equitable subrogation claim. That is, the excess insurer also has attempted to stand in the shoes of the insured in asserting a legal malpractice action.6Like the logic used by the Michigan Supreme Court inBell, the courts have allowed an excess insurer to sue because these carriers are only asserting the insured's rights to bring a malpractice claim, and this doesn't expand defense counsel's obligations beyond what they already are. A similar result was reached in New York.7

On the other hand, some courts have found no right whatsoever of an excess carrier to bring suit against the attorney hired by the primary insurer on an equitable subrogation basis.8These courts have relied upon the fact that an attorney's duty of loyalty is so overwhelmingly for the benefit of the insured that any liability of the attorney to an excess insurer forces the attorney to worry about how the excess insurer is going to view what is being done. This undermines the traditional attorney-client relationship and duty of undivided loyalty to the insured. Some courts have also equated such a subrogation action with the assignment of a legal malpractice claim, which has been rejected in many states on the basis that it undermines the sanctity of the attorney-client relationship.9Still further, some cases point out that the insurers often have the right to appoint their own counsel to monitor the case and to protect their interests so that a lawsuit against insurance defense counsel shouldn't be necessary.10

Even the courts that have recognized the right of an excess insurer to sue on an equitable subrogation theory have recognized that these insurers cannot necessarily sue for errors in trial strategy and tactical decisions because the conflicting interests between the insured and the insurers can be "intense" in these matters. Such claims must be evaluated on a case-by-case basis to determine whether there's a complete unity of interests between the insurers and the insured.11

Excess insurers have had no success with claims that they are intended and foreseeable beneficiaries of defense counsel's services, or that there's actually an attorney-client relationship between an excess insurer and defense counsel.12These courts have relied on the same reasoning that's been used to deny equitable subrogation.

Claims by Insureds Asserting Vicarious Liability of Insurers for Negligence by Defense Counsel

There are also quite a few cases involving claims by the insureds alleging that their insurers are vicariously liable for the negligence of defense counsel. Although the insureds have direct claims of malpractice against insurance defense counsel, the insureds have turned to their insurers for recoveries for various reasons relating to the inability to collect a judgment against defense counsel.

These cases are about split down the middle in terms of whether an insurer will be held vicariously liable for the misdeeds of defense counsel. The courts that find no vicarious liability do so on the basis that the attorneys are independent contractors who aren't entirely controlled by the insurer and who must make independent judgments regarding what's in the best interests of the insured.13On the other hand, there are decisions holding that, where there was no reservation of rights, the attorney was acting as the agent for the insurer, and imposing vicarious liability on the insurer was appropriate.14

Conclusion

Regardless of the correctness or incorrectness of the foregoing decisions, insurance defense counsel must recognize their potential exposure to suits against them. This should cause defense counsel to re-evaluate the limits of their malpractice policies and to understand all of the potential parties who may bring these claims against them.

Insurers should recognize their own exposure in claims of vicarious liability. They must select defense counsel with the utmost care and diligence because they may not be able to sue their chosen defense counsel if a mistake occurs. Insureds themselves need to be careful that defense counsel appointed to represent them have sufficient malpractice coverage because those insureds may not have vicarious liability claims against their insurers in the event that an uncovered or excess judgment is caused by the malpractice of judgment-proof defense counsel.

This article was originally published in the Professional Liability Underwriting Society Journal. This article is intended to inform the reader of potential liability exposures for attorneys. This article reflects general principles only and does not render legal advice. Readers should consult legal, financial, insurance, and other advisors if they have specific concerns. Neither the Los Angeles County Bar Association, Aon and its affiliates, the author, nor PLUS assumes any responsibility for how the information in this article is applied in practice or for the accuracy and completeness of the information. Reproduction without written permission is prohibited. This article is reprinted with the permission of PLUS and is made available by Aon Direct Insurance Administrators, administrators of the LACBA Sponsored Aon Insurance Solutions Program, to LACBA members.
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